The Lebanese Economy and the Aftermath of October 7

2024/05/28

DAWID MLICZEK

INTRODUCTION

According to the World Bank Lebanon Economic Monitor unveiled in December, the repercussions from the ongoing conflict in Gaza present a significant challenge to Lebanon’s fragile growth trajectory1. Since 2019, Lebanon has continuously been in the state of economic decline, due to an economic crisis and widespread political instability, exacerbated by the compounding crises of COVID-19 and the Beirut port explosion in 2020. Against this backdrop of economic turmoil, Lebanon faces acute shortages of essential commodities, worsened by fuel scarcities and a dire lack of basic necessities. Inflation has reached over 200%, and the Lebanese pound has experienced a decline of over 98% in its value relative to the US dollar. The prices for crucial utilities such as electricity, water, and gas have also seen drastic escalations. This pervasive economic distress has precipitated dire socio-economic consequences.

According to a UNESCWA report, 82% of the Lebanese population live in multidimensional poverty. This report takes into account education, health, public utilities, housing, assets and property, and employment and income. This multidimensional poverty rate has nearly doubled from 42% in 2019, to 82% in 2021, leaving people in Lebanon grappling with the realities of food insecurity, unemployment, and deteriorating living conditions.

In this context, the ongoing conflict in Gaza poses an additional challenge to Lebanon’s fragile growth trajectory. The repercussions of the conflict are seen throughout Lebanon, exacerbating existing economic difficulties and impeding prospects for recovery. As Lebanon struggles with the devastating fallout of the Gaza conflict, the path to economic stability has become more challenging, emphasising the urgent need for efforts to mitigate the crisis and move towards sustainable development.

1. https://www.worldbank.org/en/news/press-release/2023/12/21/lebanon-s-fragile-economy-pulled-back-into-recession

HISTORIC CONTEXT

Lebanon gained independence from France in 1943, adopting a sectarian system of governance resulting in tensions that eventually led to the Lebanese civil war that lasted from 19751990. Since the war, Lebanon has faced a range of political, economic and social challenges that have affected its economic development. In Lebanon, the president is elected through a ballot of 128 members of parliament, with an equal number of seats allocated to both Muslim and Christian sects. However, the threshold required to achieve a parliamentary quorum and secure the presidency is set in such a way that no single fraction or coalition holds a sufficient number of seats to impose their preferred candidate. Therefore, political elite infighting and deadlocks are rampant. The lack of attention

towards policy-making aimed at improving public service delivery, enhancing the quality of electricity supply, reducing government debt, and implementing labour-market reforms has been overshadowed by these political deadlocks. Not resolving institutionalised sectarian tensions after 15 years of conflict, has heavily affected Lebanon’s trajectory of economic and social development. Lebanon’s position in the 2018 World Economic Forum’s Global Competitiveness Report was 105 out of 137, highlighting significant challenges in areas such as government and policy instability, corruption, inadequate infrastructure, and inefficiency in government bureaucracy. These factors were identified as the most problematic in hindering the country’s economic development.

Image by Dawid Mliczek

POLTICAL CORRUPTION

Lebanon’s political system, based on sectarianism, creates an environment that is highly susceptible to corruption. The power-sharing arrangement, which aims to guarantee fair representation of each of Lebanon’s religious communities in the public sector, has led to a close relationship between the political elites and their allies in the private sector. This has resulted in a situation where the state is viewed as a means for personal gain, leading to the strengthening of various sectarian networks that prioritise personal enrichment over public service. In the long term, this has undermined the integrity of the state and created a culture of corruption that permeates all levels of Lebanese society. This has created

a “neo-patrimonial” system in Lebanon where the public is considered a private entity, and corruption is normalised. Decades widespread corruption have rendered the public sector dysfunctional, with living standards steadily declining.

Transparency International’s Corruption Perceptions Index (CPI) evaluates countries globally, assessing the perceived extent of corruption within their public sectors, ranking them 0 (highly corrupt) to 100 (very clean). Lebanon consistently ranks among the lowest-scoring countries worldwide, standing at 24/100 on the CPI, 149/180 countries evaluated.

WEAK INFRASTRUCTURE

The Lebanese civil war, spanning from 1975 to 1990, had a profound impact on the country’s development. With more than 144,000 killed, 184,000 injured, and at least 17,000 missing, the destruction of 175 towns, in addition to the displacement of over 750,000 Lebanese, resulted in immense physical damages, estimated at around $25 billion. The destruction of buildings and infrastructure, as well as the loss of human capital through death, injury, or emigration, are among the many consequences of the Lebanese civil war and continue to continue to impact Lebanon’s development and hinder its progress towards stability and prosperity.

Lebanon’s infrastructure has been damaged by years of conflict, neglect, and underinvestment, resulting in poor roads, limited access to clean water and sanitation, and unreliable electricity. As a legacy of the Lebanese civil war, there has been

a lack of investment in infrastructure, as different factions made use of urban services such as water and electricity as weapons to reinforce power balances and achieve dominance. For example, during the 1982 Israeli invasion, Lebanese Forces closed sluices in order to put pressure on their opponents. Therefore, reconstruction of electric grids and water sources were not technical, but rather strategic. High quality public infrastructure is a key driver of economic growth and development. However as political-sectarian militias in heavily fragmented areas of Lebanon took over the state’s role, there has absence of state regulation, maintenance of law and order, and the construction of quality infrastructure. Conflict in Lebanon has left a lasting impact on the development, political stability, and economy of the country, with social divisions continuing to hinder progress and economic development.

THE ECONOMIC CRISIS

The Lebanese economic crisis began in October 2019, and has received international attention as one of the most severe global crises. Rooted in a complex interplay of political factors and economic mismanagement, the crisis has pushed Lebanon into a state of instability and hardship. The crisis was sparked by widespread public outrage over a proposed tax on WhatsApp messages, triggering mass demonstrations across the country. Subsequently, Lebanon found itself in a downward spiral characterised by an unstable fixed exchange rate, sizable external and fiscal deficits, and mounting losses in the banking sector.

Compounding the crisis were successive external shocks, including the COVID-19 pandemic, a global energy crisis, and the explosion at the Beirut port. These events exacerbated the nation’s economic difficulties, precipitating the devaluation of the Lebanese pound by over 98% and pushing inflation to over 200%. Consequently, more than two-thirds of the population have been pushed into poverty, grappling with the consequences of diminished purchasing power and lack of access to basic necessities.

Moreover, the Lebanese government has contended with significant challenges in effectively managing the state-run electricity provider, Électricité du Liban (EDL), over the past three decades. Since the end of the civil war in 1990, a combination of mismanagement, corruption, neglect, and failure to invest in the electricity infrastructure has led to a steady deterioration in EDL’s capacity to meet Lebanon’s energy demands. This has resulted in widespread blackouts, with residents enduring rationed electricity ranging from 12 to 21 hours per day in different regions until 2021, with more severe shortages in areas further from the capital, Beirut. The percentage of Lebanon’s electricity needs met by EDL dropped

from approximately 78 percent in 2008 to around 55-64 percent by 2018. However, the situation escalated into a crisis during the summer of 2021 when the Lebanese government faced challenges in securing foreign currency to purchase fuel. Consequently, EDL has struggled to provide more than 1-3 hours of electricity daily since then. To compensate for the shortfall, a profitable yet expensive and environmentally damaging diesel generator market has emerged, catering mainly to those with financial means. This has exacerbated societal inequality, rendering electricity a luxury accessible primarily to the affluent, worsening Lebanon’s economic crisis and driving more people into poverty.

In response to the crisis, Lebanon embarked on negotiations with the International Monetary Fund (IMF) in May 2020, with the aim of securing a rescue package to avert further deterioration of its economy. A pivotal milestone was reached in April 2022 with the signing of an initial Staff Level Agreement (SLA) outlining a comprehensive reform agenda spanning fiscal restructuring, financial sector overhaul, and governance enhancements. However, progress in implementing the reforms has been slow, due to political resistance and a lack of governmental will. Key measures, such as the enactment of the banking secrecy law in July 2022, have been perceived as counterproductive to the imperative of reform, undermining the prospects for sustainable economic recovery.

The ruling elites are reluctant to pursue the IMF program concerned over potential erosion of market power, accountability, and transparency, which the reforms seek to address. Consequently, Lebanon finds itself ensnared in a vicious cycle of delay and indecision, with the costs of inaction rising drastically. Financial losses in the public and financial sectors have increased,

while the population suffers from the escalating poverty rates, lack access to essential services, and

a growing sense of disillusionment with the government’s ability to navigate the crisis.

BORDER CONFLICT SINCE OCTOBER 7

Since the outbreak of the Gaza conflict on October 7, frequent exchanges of fire along Lebanon’s southern border, mainly involving the Israeli army and Hezbollah, an ally of Hamas, have contributed to this economic downturn. Hezbollah, a Lebanese Shiite political and military organisation, has emerged as a powerful force shaping the socio-political landscape of Lebanon. Founded in the early 1980s, its roots trace back to the Israeli invasion of Lebanon and the subsequent vacuum of power in the country. As a complex entity with both military and political wings, Hezbollah has become a significant player within Lebanon and also in the broader geopolitical sphere, particularly due to its close ties with Iran.

According to the Beirut Urban Lab, Israel has conducted more than 3,600 strikes inside Lebanese territory since October 7, and has been using phosphorous munitions, causing serious environmental damage, and threatening the Lebanon’s fragile agricultural sector and the regional ecosystem. At least 300 people are estimated to have been killed in Lebanon including 240 Hezbollah fighters and 35 civilians in nearly five months of daily low-level clashes between Hezbollah and Israeli forces against the backdrop of the Israel-Hamas war. Nearly 20 Israelis have been killed, according to Israeli figures. 462 hectares of land have been damaged in fires resulting from these strikes, and Livestock have also been affected, with 150,000 chickens and 620 sheep at risk. Apiculture has also been put at risk with about 150 beehives destroyed. Olive farmers near the border are one of the groups that have suffered particularly large economic losses due to the fighting, as they have

been prevented from entering their fields during the annual harvest season, which lasts from start October to mid-November. This has resulted in human rights groups and the Lebanese government accusing Israel of using chemical substances to cause long-lasting damage to the environment.

Much of the violence between Hezbollah and Israel has taken place near the border, with the exception of February 26 Israeli airstrike in the Bekaa Valley, and the January 2 Israeli drone strike in Southern Beirut (Dahieh) which killed a top Hamas leader. Tens of thousands of Israelis and Lebanese have fled villages on both sides of the frontier and have been displaced by the continued cycle of Hezbollah missile attacks and Israeli airstrikes and artillery fire. According to the UNOCHA, over 90,000 people have been displaced from their villages in the South, particularly Bint Jbeil, Marjayoun, and Sour. Israel has also issued increasingly stern warnings that Hezbollah should pull back from the border or it will launch a war on Lebanon, with Israeli Defence Minister Yoav Gallant warning Hezbollah that launching a war would result in widespread destruction in Lebanon similar to that in Gaza; “If it (Hezbollah) makes this kind of mistake here, the ones who will pay the price will be first and foremost Lebanese citizens, what we’re doing in Gaza, we can also do in Beirut.”

In response diplomats from the United States and European countries presented proposals to addressing the Lebanon-Israel border conflict. Central to these recommendations was calling for Hezbollah to withdraw a few kilometres away from the border, aiming to reduce the potential

for cross-border confrontations, and advocating for a strengthened presence of the Lebanese army in the border region seeks to enhance stability and prevent further incursions. These recommendations presented an effort to de-escalate

tensions and promote a more peaceful coexistence between Lebanon and Israel, however this is unlikely in the current political climate and continuously escalating tensions.

ECONOMIC FORECAST

According to a report by the World Bank, the conflict has undone the slight economic recovery that Lebanon was experiencing amidst its ongoing severe economic crisis. Before the current conflict, economic growth in Lebanon was anticipated to rise in 2023, marking its first expansion since 2018, albeit slightly by 0.2%. It seemed that the economy had reached a temporary stabilisation point after years of significant decline. This marginal growth was primarily driven by factors such as increased consumption due to a successful summer tourism season, substantial inflow of remittances, a growing trend of salaries being paid in dollars, and indications of stabilisation in private sector activities. However, with the onset of the ongoing conflict and the absence of broader economic policy measures, according to the World Bank, Lebanon’s economy is now expected to slip back into recession in 2023. Persistent macroeconomic imbalances persist, including a significant deficit of 12.8% of GDP.

Lebanon heavily relies on imports for essential items like food, fuel, and medicine, with approximately 70-80% arriving via sea routes. The current escalation in tensions has sparked concerns reminiscent of the 2006 war, during which Lebanon’s ports became inaccessible due to the threat posed by Israeli warships. However, back then, Lebanon had substantial reserves, including grains stored in the silos of the Beirut port, which were destroyed in the 2020 port explosion.

Amid the ongoing Israel-Hamas war, The World

Bank has stated that the effects are expected to push Lebanon’s economy back into recession, primarily due to a decline in tourism spending. Tourism, which accounts for 20% of Lebanon’s gross domestic product (GDP), has been severely impacted. Since October 7, many airlines have cut down or cancelled flights to and from Lebanon, hurting Lebanon’s tourism-dependent economy. This has significantly affected businesses, with the restaurant industry experiencing a significant decline in trade, with a drop of up to 80% reported by Lebanon’s syndicate for restaurants, nightclubs, and cafes. The unstable situation at the Southern border has prompted countries including Australia, France, Germany, the United Kingdom, and the United States, among others, to advise against all travel to Lebanon and recommend that the citizens currently in the country depart while commercial flights are still available. Furthermore, on October 20, Middle East Airlines, Lebanon’s national carrier, announced a reduction in its flight operations “due to the ongoing circumstances in the region and the reduced insurance coverage for aviation risks in times of war”. This decision resulted in an 80% decline in the airline’s flights from Beirut airport, Lebanon’s only airport.

Furthermore, according to the report, inflation rate is projected to accelerate to 231.3% in 2023. This acceleration is driven by exchange rate depreciation, particularly in the first half of 2023, and by a rapid increase in dollar-denominated economic transactions. Additionally, Lebanon

has ranked at the top of the list of countries most severely affected by nominal food price inflation in the first quarter of 2023, reaching 350% year-on-year in April 2023. This further worsens the living conditions for the poorest and most vulnerable segments of the population. Lebanon’s

sovereign debt was at 179.2% of GDP in 2022 and remains unmaintainable amid sharp depreciation of the Lebanese pound and economic contraction, particularly without debt restructuring measures in place.

POLICY IMPLEMENTATIONS

To address Lebanon’s development issues sparked by corruption, low accountability, and weak infrastructure is to focus on strengthening governance and accountability mechanisms. This can be done by implementing reforms that improve transparency, accountability, and anti-corruption measures, such as strengthening the independence of the judiciary and anti-corruption agencies, enforcing financial disclosure requirements for public officials, and ensuring effective implementation of anti-corruption laws.

Ideally, Lebanon would adhere to The International Monetary Fund’s recommended comprehensive reform plan that includes restructuring the financial sector, implementing fiscal reforms, reforming state-owned enterprises, strengthening governance and anti-corruption frameworks, and establishing a credible monetary and exchange rate system. These reforms are necessary to restore Lebanon’s financial viability, ensure debt sustainability, invest in social spending, reconstruction, and infrastructure, and improve transparency and accountability. The IMF has emphasised the importance of comprehensive reforms to bring public finances into order, restructure public debt, rehabilitate the banking system, expand the social safety net, and improve governance. Implementing these critical reforms, as recommended by the IMF, could help Lebanon overcome its deep humanitarian, social, and economic crisis and pave the way for sustainable development. Reaching this agreement with the

IMF on these policies could unlock the four-year US$ 3 billion Extended Fund Facility, providing much-needed financial and technical assistance to Lebanon’s recovery efforts.

Improving governance, fighting corruption, and strengthening anti-money laundering and counter-financing of terrorism frameworks are crucial for rebuilding public trust in the government’s policies and ensuring inclusive growth. A thorough analysis of governance would provide guidance for improving governance, including measures to bolster the autonomy and impartiality of the judicial system and increase accountability across the public sector. The government should prioritise rule of law and good governance by taking actions such as facilitating transparent and efficient humanitarian and social aid, adopting implementation decrees for pending laws related to good governance and corruption in the public sector, establishing the National Anti-Corruption Commission, and passing the law on the independence of the judiciary. Only then can the government successfully launch an economic and social recovery plan in collaboration with national and international partners such as the IMF and UN. The commission’s formation would ensure the implementation of anti-corruption laws and hold corrupt public officials accountable.

Furthermore, the Lebanese government should adhere to the high standards of transparency

by providing accessible and shareable data to investors in Lebanon. It is especially critical to ensure transparent funding processes to prevent corruption and ensure the aid reaches those in need. The lack of transparency in aid distribu-

tion processes in Lebanon has resulted in inefficiency and corruption, leading to duplication of efforts and misuse of funds. This transparency will ensure accountability and good governance.

FUTURE IMPLICATIONS

Even though Lebanon and Israel have had many conflicts in the past, the Israel-Hamas conflict has had a negative effect on Lebanon’s economy due to continually escalating tensions on the Southern border. The possibility of another war would be disastrous for the country as a whole for a number of reasons. Since the financial crisis hit in 2019, Lebanon’s economic system has been in complete collapse. This has been made worse by the ruling class’s unwillingness to implement the necessary reforms to restore stability. The nation’s GDP has fallen to just 40% of what it was in 2018, and social vulnerability has increased to previously unheard-of levels.

Since the economy crashed, Lebanon has become more and more dependent on capital inflows; in 2023, these inflows accounted for nearly 90% of GDP, up from 50% in 2018. Lebanon’s largely cash-based economy makes it dependent on

importing US dollars to survive. Thus, Lebanon would lose access to vital financial flow if ports and airports were closed. Because of Lebanon’s leadership’s inability to carry out reforms, donors who had previously helped to cover costs are now reluctant to assist Lebanon. The viability of long-term investments is unclear, and Lebanon’s vital resources will keep decreasing in the absence of a comprehensive crisis resolution plan.

Looking to the future, in the midst of an already fragile economic landscape, the consequences of escalating tensions between Lebanon and Israel could be catastrophic.

Lebanon’s prospects for recovery remain bleak, and it is imperative for Lebanon’s leadership to prioritise stability, enact meaningful reforms, and seek diplomatic solutions to mitigate the risks of further escalation and secure a better future for the nation.

REFERENCES

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https://www.worldbank.org/en/news/press-release/2023/12/21/lebanon-s-fragile-economypulled-back-into-recession

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https://www.unescwa.org/publications/multidimensional-poverty-lebanon-2019-2021

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https://www.imf.org/en/News/ Articles/2023/03/23/lebanon-staff-concludingstatement-of-the-2023-article-iv-mission

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